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Tips to Improve your Credit Score prior to applying for a home Mortgage

Tips to Improve your Credit Score prior to applying for a home Mortgage

Tuesday, March 22, 2016

In Florida, the average credit score is 679, ranking 39th in the nation.

Credit scores change and reflect credit patterns. The best way to think of a credit score is as though it is a snapshot of a person's credit at one specific moment in time. Your score can go up or down depending on how he or she manages credit and based on what information is being used to arrive at the score. Generally, a person's score does not change much from one month to the next. Most credit scores do not change more than 30 points in a calendar quarter, so it's a good idea to check your credit score 6-12 months prior to applying for home loans, for example. That way, if adjustments are needed that can affect credit score, you will have the time to do so.

Credit scoring models are complex and often vary among creditors; they may even vary depending upon the type of credit requested and the nature of the applicant. Someone who has limited credit history, for example, a recent college graduate, may be viewed differently than a 30-something couple with well-established credit. No single piece of information or factor will determine your score. What may be important for one person may be more or less important than for another person with a different set of credit characteristics.

It is important that you understand that, generally, there are no quick fixes. Sometimes attempts at achieving immediate results to increase a credit score can backfire and result in a lower score. Often the best advice is to manage your credit responsibly over a period of time. Most credit scoring models evaluate the following types of information in credit reports. Here, then, are the top five ways you can improve your credit scores in the long run:

1. Pay bills on time (Approximately 35% of a credit score is based on this category)

Payment history is typically a significant factor. It is likely that your score will be affected negatively if you have paid bills late, have had accounts referred to collections, or have declared bankruptcy, if that history is reflected on your credit reports. Most scoring models evaluate how late a payment is, how recently the late payment occurred, and how many late payments there are in total. A 90-day late payment last month will reduce a score more than a 120-day late payment three years ago. Late payments involving smaller amounts are not as significant as ones involving larger amounts.

The longer you pay your bills on time, the better your score become. Paying off an account where there was a late payment will not normally remove it from a person's credit report, and it will still be evaluated to arrive at a credit score. Negative records are supposed to expire from credit reports after seven years (ten years for bankruptcy). Because these reports have a significant negative effect on a person's credit score, make sure they are removed within the proper time.

2. Limit outstanding debt (Approximately 30%)

Most scoring models evaluate the amount of debt you have compared to your credit limits. If you owe an amount close to your credit limit, it will have a negative impact on your score. Owing a lot of money on many accounts can be an indication that a person is overextended. This implies that a person will be late with payments or not make them at all. Having a small balance and making the minimum payment can show that the person has managed credit responsibly, which may be slightly better than carrying no balance at all.

Closing unused accounts that show zero balances and that are in good standing will not raise your score, and owing the same amount but having fewer open accounts may actually lower your score. It will also shorten your credit history, which is discussed next. Similarly, opening a number of new credit card accounts just to increase the amount of available credit could backfire and lower your score.

The most effective way to improve your score in this category is to pay down your revolving credit. A client with a high amount of outstanding debt can increase his or her score by 30-50 points by paying off 90 percent of that debt. Just moving the debt around - for example, taking out a new credit card with a low interest rate - may be a good strategy in terms of reducing credit cost, but it would be negative in terms of your credit score.

Make sure you review your credit report to ensure that your available credit limits are being reported. Sometimes, if no credit limit is recorded on a report, a credit scoring model will score the account as though the current balance is the credit available. The credit scoring models have certain threshold levels to identify higher risks. If a person has used 70 percent of their available credit, they are perceived to be in the highest level of risk. The next threshold is 50 percent. Reducing credit card balances to below 20 percent of the credit limit will save you a bundle on interest charges. Similarly, your score will be higher if their balances are evenly spread out among all of your credit cards rather than if you have the same total amount on just one card. Consolidation of credit card balances results in the appearance of poor credit utilization.

3. Preserve length of credit history (Approximately 15%)

Generally, credit models consider the length of a person's credit track record. An insufficient credit history may have a negative effect on your client's score. This can, however, be offset by other factors, such as timely payments and low balances. Even someone who has not been using credit for very long can get a high credit score depending on their other factors. Most credit scoring models consider both the age of a person's oldest account and the average age of all of their accounts. New accounts lower a person's average account age and can have a negative effect on his or her score.

Rapid account buildup is also considered risky behavior in most credit scoring models. Use every credit card you have at least once every six months to avoid having the card go inactive. Inactive accounts can be ignored by credit scoring software, and you may not receive the benefit of a low balance and a long and positive payment history. It is a good idea to keep and occasionally use older credit cards to maintain a higher score, even if the credit card has an outrageous interest rate.

4. Avoid recent credit applications (Approximately 10%)

Many scoring models consider whether you have applied for credit recently by looking at inquiries on your credit report. If a person has applied for too many new accounts, it may negatively affect his or her score. Not all inquiries are counted. For instance, inquiries by creditors who are monitoring an account or looking at credit reports to make a person a "pre-approved" credit offer are not counted. Also, you can request and check your own credit reports and credit scores, and it will not negatively affect most credit scoring models if the reports were ordered directly from credit-reporting agencies.

You should always read the fine print in "special" and "introductory" credit offers. If there is any question about the legitimacy or prudence of an offer, you should not accept it. Credit scoring models treat these solicitations as "soft" inquiries, which do not affect a person's score. When a person accepts a credit offer, it's treated as a "hard inquiry" that is factored into the score, even though they may never receive the card or use the account. Do not apply for cards that they are not likely to get.

Some scoring models differentiate between a search for a single home or car loan and a search for many new credit lines. They do this, partially, by evaluating the length of time over which the credit inquiries have been made. Generally, credit scoring models count multiple inquiries in any one 14-day period as just one inquiry. Similarly, some models ignore inquiries made in the 30 days prior to arriving at the score if the inquiries come from mortgage or auto loan lenders. Also, inquiries for use in making employment decisions are not counted. For most, most of the time, one credit inquiry will result in less than five points being deducted from your credit score.

Inquiries can have a larger impact on a credit score if you have few accounts or a shorter credit history. Inquiries remain on a person's credit report for two years. Some credit scoring models only count inquires for the past 12 months. If you had a number of inquiries but only a short period of time remains before the inquiries drop off their credit report, it may be beneficial to wait to apply for credit.

5. Manage the number and types of credit accounts (Approximately 10%)

It is generally good to have established credit accounts. Someone who has no credit cards could be considered a higher risk than someone who has some credit card debt but has managed it wisely; however, too many credit card accounts may have a negative effect on a person's score.

The ideal number of credit cards to maximize a credit score is three to five. Having more will not necessarily significantly affect your client's score. A good general rule is to never close a credit card account unless it was created in the past two years and the person has more than six credit cards. The reason for this is that by closing the account, he or she might affect the ratio between credit limit and credit available in a way that reduces credit score.

Many models consider the type of credit account a person has. For example, under some scoring models, loans from finance companies may negatively affect your credit score. Generally, a mix of credit cards, retail accounts, installment loans and mortgage loans results in a better score, but it is not essential to have one of each type. The lack of a real estate loan, for example, does not decrease a credit score; however, it might result in a score not being as high as it could be. You should not open accounts or take out loans just to have a better credit mix.

 
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